The Market Pricing of Special Items that are Included Versus Excluded from 'Street' Earnings

Posted: 20 Oct 2010

See all articles by Charles Hsu

Charles Hsu

Hong Kong University of Science & Technology

William Kross

State University of New York (SUNY) at Buffalo - Department of Accounting

Multiple version iconThere are 2 versions of this paper

Date Written: October 17, 2010

Abstract

We re-investigate the market pricing of special items, with particular emphasis on how managers “frame” these non-operating earnings components via their inclusion or exclusion from “street” earnings, the earnings numbers that firms disclose in their press releases and that analysts track and forecast. When managers include the special items in “street” earnings (i.e., “street” = GAAP), the market overprices them, believing the special items to be more persistent than they actually are. As a result, there is a negative relationship between the special items and future stock returns in the following year. However, when managers exclude special items from “street” earnings (i.e., “street” ≠ GAAP), the market recognizes their transitory characteristic and the relationship between special items and returns is insignificant in the following year. We also demonstrate that the decision to include (exclude) special items with (from) “street” earnings is associated with whether inclusion or exclusion of special items a) increases earnings numbers, b) smoothes the earnings series, or c) helps managers to meet earnings benchmarks. These results suggest that the decision to include or exclude special items from “street” earnings is associated with managerial incentives to manage earnings numbers rather than signal the persistence of special items.

Keywords: Special Items, Mispricing, Street Earnings, Management Framing

JEL Classification: G14, M41

Suggested Citation

Hsu, Charles and Kross, William, The Market Pricing of Special Items that are Included Versus Excluded from 'Street' Earnings (October 17, 2010). Contemporary Accounting Research, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1693654

Charles Hsu (Contact Author)

Hong Kong University of Science & Technology ( email )

Hong Kong
Hong Kong
852-2358-7568 (Phone)
852-2358-1693 (Fax)

William Kross

State University of New York (SUNY) at Buffalo - Department of Accounting ( email )

Buffalo, NY 14260
United States

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